Current General Studies Magazine (August 2014)
General Studies - III (Economy based Article)
Fiscal Responsibility and Budget Management (FRBM) Act, 2013
The Fiscal Responsibility and Budget Management Act, 2003 (FRBMA)
is an Act of the Parliament of India to institutionalise financial discipline,
reduce India's fiscal deficit, improve macroeconomic management and the overall
management of the public funds by moving towards a balanced budget. The FRBM
Rules impose limits on fiscal and revenue deficit. Hence, it will be the duty of
the Union government to stick to the deficit targets. It also empowers RBI for
taking measures to control Inflation.
- Fiscal deficit- The difference between total revenue and total
expenditure of the government is termed as fiscal deficit. It is total
indebtedness of the government.
- Revenue deficit- A mismatch in the expected revenue and expenditure
can result in revenue deficit.
The Act also provide exception to government in case of
natural calamity and national security. The Rules required the government to
restrict fiscal and revenue deficit to 45% of budget estimates at the end of
September (first half of the financial year).In case of a breach of either of
the two limits, the FM will be required to explain to Parliament the reasons for
the breach, the corrective steps, as well as the proposals for funding the
The main purpose was to eliminate revenue deficit of the
country (building revenue surplus thereafter) and bring down the fiscal deficit
to a manageable 3% of the GDP by March 2008. However, due to the 2007
international financial crisis, the deadlines for the implementation of the
targets in the act was initially postponed and subsequently suspended in 2009.
In 2011, given the process of ongoing recovery, Economic Advisory Council
publicly advised the Government of India to reconsider reinstating the
provisions of the FRBMA.
States level fiscal responsibility legislations in India
The tenth plan of the Planning Commission of India
highlighted the need for fiscal discipline at even the level of the states. This
was to reduce the debt-to-GDP ratio of India. Reserve Bank of India(RBI),in its
role as the ultimate financial authority in India, was also a keen supporter of
the concept and publicly highlighted the need for state level fiscal
responsibility legislations in India. By 2007, the states of Karnataka, Kerala,
Punjab, Tamil Nadu, Maharashtra and Uttar Pradesh are among those which have
already legislated the required fiscal discipline laws at the state level.
Content of the Act
Since the act was primarily for the management of the governments' behaviour,
it provided for certain documents to be tabled in the Parliament annually with
regards to the country's fiscal policy. This included the following along with
the Annual Financial Statement and demands for grants:
A document titled Medium-term Fiscal Policy Statement –
This report was to present a three-year rolling target for the fiscal
indicators with any assumptions, if applicable. This statement was to
further include an assessment of sustainability with regards to revenue
deficit and the use of capital receipts of the Government (including market
borrowings) for generating productive assets.
A document titled Fiscal Policy Strategy Statement – This
was a tactical report enumerating strategies and policies for the upcoming
Financial Year including strategic fiscal priorities, taxation policies, key
fiscal measures and an evaluation of how the proposed policies of the
Central Government conform to the 'Fiscal Management Principles' of this
A document titled Macro-economic Framework Statement –
This report was to contain forecasts enumerating the growth prospects of the
country. GDP growth, revenue balance, gross fiscal balance and external
account balance of the balance of payments were some of the key indicators
to be included in this report.
The Act further required the government to develop measures to promote fiscal
transparency and reduce secrecy in the preparation of the Government financial
documents including the Union Budget.
Fiscal management principles
The Central Government, by rules made by it, was to specify the following:
1. a plan to eliminate revenue deficit by 31 Mar 2008 by setting annual
targets for reduction starting from day of commencement of the act.
2. reduction of annual fiscal deficit of the country
3. annual targets for assuming contingent liabilities in the form of guarantees
and the total liabilities as a percentage of the GDP
Borrowings from Reserve Bank of India
The Act provided that the Central Government shall not borrow
from the Reserve Bank of India(RBI) except under exceptional circumstances where
there is temporary shortage of cash in particular financial year. It also laid
down rules to prevent RBI from trading in the primary market for Government
securities. It restricted them to the trading of Government securities in the
secondary market after an April, 2005, barring situations highlighted in
National security, natural calamity or other exceptional
grounds that the Central Government may specify were cited as reasons for not
implementing the targets for fiscal management principles, prohibition on
borrowings from RBI and fiscal indicators highlighted above, provided they were
approved by both the Houses of the Parliament as soon as possible, once these
targets had been exceeded.
Measures to enforce compliance
This was a particularly weak area of the act. It required the
Finance Minister of India to only conduct quarterly reviews of the receipts and
expenditures of the Government and place these reports before the Parliament.
Deviations to targets set by the Central government for fiscal policy had to be
approved by the Parliament. No other measures for failure of compliance have
Targets and fiscal indicators
Subsequent to the enactment of the FRBMA, the following targets and fiscal
indicators were agreed by the Central government:
- Date of elimination – 31 March 2009 (postponed from 31 March 2008)
- Minimum Annual reduction – 0.5% of GDP
- Ceiling – 3% of the GDP by 31 Mar 2008
- Minimum Annual reduction – 0.3% of GDP
- Total Debt – 9% of the GDP (a target increased from the original 6%
requirement in 2004–05)
- Annual Reduction – 1% of GDP
- RBI purchase of Government bonds – to cease from 1 April 2006
Four fiscal indicators to be projected in the medium term
fiscal policy statement were proposed. These are, revenue deficit as a
percentage of GDP, fiscal deficit as a percentage of GDP, tax revenue as
percentage of GDP and total outstanding liabilities as percentage of GDP.
The residuary powers to make rules with respect to this act
were with the Central Government with subsequent presentation before the
Parliament for ratification. Civil courts of the country had no jurisdiction for
enforcement of this act or decisions made therein. The power to remove
difficulties was also entrusted to the Central Government.
Suspension and reinstatement
Implementing the Act, the government had managed to cut the
fiscal deficit to 2.7% of GDP and revenue deficit to 1.1% of GDP in 2007–08.
However, given the international financial crisis of 2007, the deadlines for the
implementation of the targets in the act were suspended. The fiscal deficit rose
to 6.2% of GDP in 2008–09 against the target of 3% set by the Act for
2008–09.However, IMF estimated fiscal deficit to be 8% after accounting for oil
bonds and other off budget expenses.
In August 2009, IMF had opined that India should implement
fiscal reform at the soonest possible, enacting a successor to the current
act.This IMF paper was authored by two senior IMF economists Alejandro Sergio
Simone and Petia Topalova and highlighted the shortcomings of the current law
along with proposed improvements for a new version.
It was reported that the Thirteenth Finance Commission of
India was working on a new plan for reinstating fiscal management in India. The
initial expectation for revival of fiscal prudence was in 2010–11 but was
further delayed. Finally, the government did announce a path of fiscal
consolidation starting from fiscal deficit of 6.6% of GDP in 2009–10 to a target
of 3.0% by 2014–15 However, eminent economist and ex-RBI Deputy Governor, S.S.
Tarapore is quick to highlight the use of creative accounting to misrepresent
numbers in the past. Furthermore, he added that fiscal consolidation is indeed
vital for India, as long as the needs of the poor citizens are not marginalised.
This need for financial inclusion of the poor while maintaining the fiscal
discipline was highlighted by him as the most critical requirement for the
2011–12 Budget of India.
More recently, in February 2011, the PMEAC recommended the
need for reinstatement of fiscal discipline of the Government of India, starting
2011–12 financial year. In FY 2011–12, it is almost certain that government will
cross budgetary fiscal deficit target of 4.6% and it will be around 5%.
Some quarters, including the subsequent Finance Minister Mr.
P. Chidambaram, criticised the act and its rules as adverse since it might
require the government to cut back on social expenditure necessary to create
productive assets and general upliftment of rural poor of India. The vagaries of
monsoon in India, the social dependence on agriculture and over-optimistic
projections of the task force in-charge of developing the targets were
highlighted as some of the potential failure points of the Act. However, other
viewpoints insisted that the act would benefit the country by maintaining stable
inflation rates which in turn would promote social progress.
Some others have drawn parallel to this act's international counterparts like
the Gramm-Rudman-Hollings Act (US) and the Growth and Stability Pact (EU) to
point out the futility of enacting laws whose relevance and implementation over
time is bound to decrease. They described the law as wishful thinking and a
triumph of hope over experience. Parallels were drawn to the US experience of
enacting debt-ceilings and how lawmakers have traditionally been able to amend
such laws to their own political advantage.Similar fate was predicted for the
Indian version which indeed was suspended in 2009 when the economy hit rough
What were the reasons for the introduction of Fiscal Responsibility and
Budget Management (FRBM) Act, 2013? Discuss critically its salient features
and their effectiveness. (200 words)
Critically examine Fiscal Responsibility and Budget Management (FRBM)